ABCs & Unsecured Trade Creditors

By: Donald L Swanson

Here’s a question about the new Uniform Assignment for Benefit of Creditors Act (the “Uniform ABC Act”):

• Is a liquidation under the Uniform ABC Act a good thing or a bad thing for the debtor’s unsecured trade creditors?

The answer is easy: it’s a good thing.

Here’s why: because liquidation under the Uniform ABC Act provides the best opportunity to maximize benefits and minimize losses for debtor’s unsecured trade creditors — better than what any other liquidation alternative provides.

Here are some illustrative comparisons.

Bankruptcy Preference Claims & Unsecured Trade Creditors

One of the most-nasty features of a bankruptcy, for unsecured trade creditors, is the right of the bankruptcy estate to claw back § 547 preference payments: i.e., payments made to creditors within 90 days before the bankruptcy filing. 

Preferences under § 547 are no-fault claims: i.e., there is no requirement to prove that the creditor did anything wrong or had knowledge of insolvency or any similar thing. And the statute of limitations for filing a § 547 preference claim is two years after the bankruptcy begins, which time can extend for an additional year when the bankruptcy case is converted to Chapter 7 (see § 546(a)(1)).

And it’s a well-known secret that preference claw back claims are often used to fund the administration of a bankruptcy case when the case ends up being administratively insolvent.  That’s because pre-petition liens do not attach to recoveries on post-petition preference claims (see § 551).

–Uniform ABC Act Contrast

The Uniform ABC Act, by contrast, does not have a corresponding no-fault preference claw back provision.  A Uniform ABC Act assignee has the power (under Section 10(b)(12), (c) & (d) of the Act) to bring whatever avoidance actions a creditor might have brought under state law before the assignment occurs. 

• But unlike the provisions of § 547 of the Bankruptcy Code, such state law actions do not include a no-fault preference claim.

The closest thing under state law to a § 547 preference claw back claim that a creditor can bring is under Section 5(b) of the Uniform Voidable Transactions Act, which authorizes recovery of a payment to an insider on account of an antecedent debt, made within one year prior to the initiation of the claw back action and at a time when the insider knew or should have known of the debtor’s insolvency.

So a customer’s bankruptcy filing is one of the worst-possible things that could happen to an unsecured trade creditor who received a payment from debtor within 90 days prior to the bankruptcy filing. That’s one more manifestation of this old formula: Bankruptcy + Unsecured Claim = You Lose.

And so, an assignment under the Uniform ABC Act by an unsecured trade creditor’s debtor is much better for such creditor than a bankruptcy filing by that same debtor.   

Receiverships & Unsecured Trade Creditors

Receivership proceedings are, typically, initiated by a secured creditor to protect the interests of that creditor. 

A receivership is a court-supervised process, with bond requirements, that result in significant costs for the administration of the proceeding. 

Such realities are a huge problem for any hope of producing funds for unsecured trade creditors.  And, indeed, it is rare for such receivership proceedings to produce any money for anyone beyond the fees of the receiver and its attorney, other costs of the receivership, and the lien claims of the creditor who filed the receivership action.  And even the filing creditor often comes up short on its lien claims.

–Uniform ABC Act Contrast

The Uniform ABC Act, by contrast, establishes an out-of-court process (without a bond requirement) to liquidate debtor’s assets as efficiently as possible.  There are, of course, fees of the assignee and the assignee’s attorney, but the absence of court proceedings and the absence of a bond requirement eliminate huge costs that are inherent in any receivership and other court-supervised processes.

Lien Foreclosures & Unsecured Trade Creditors

When secured creditors foreclose their liens, the foreclosures rarely produce any money for unsecured trade creditors.

A secured creditor, in foreclosing it’s lien, has but one goal: to get the best-possible return for its lien position.  The interests of other creditors (and especially the interests of unsecured trade creditors) don’t even hit the radar on what the foreclosing creditor is trying to accomplish.

In fact, the most common result of a lien foreclosure sale is this: the highest and successful bid is the foreclosing lienholder’s credit bid.

–Uniform ABC Act Contrast

An assignee under the Uniform ABC Act, by contrast, has fiduciary duties of loyalty to and impartiality among all creditors (including unsecured trade creditors), and such duties can be enforced in court; whereas, a foreclosing lienholder has no such duty to any creditor beyond itself.

• This difference in duties is both huge and meaningful, for the benefit of debtor’s unsecured trade creditors, under the Uniform ABC Act.

Voluntary Liquidations & Unsecured Trade Creditors

I’ve assisted numerous debtors with voluntary liquidations of their assets.  Such liquidations almost always focus on cooperative action with the primary lienholder(s).

In such circumstances, it’s very difficult to get money for unsecured trade creditors.  Usually, it’s a struggle to get enough money to pay the liens.

The result is that unsecured creditors and investors, who are out of the money at the end of the liquidation, commonly look upon the entirety of the liquidation process with suspicion, believing that they’ve been cheated and that the liquidation was accomplished for the primary benefit of debtor’s insider(s). 

It’s is a problem of credibility.

–Uniform ABC Act Contrast

An assignment under the Uniform ABC Act, by contrast, adds a layer of credibility—which is based on the assignee’s fiduciary duties to all creditors, 

Under the Uniform ABC Act, the assignee’s fiduciary duties include (in addition to the duties of loyalty and impartiality) the duty to communicate with and inform creditors about the liquidation process and how it is happening. 

• All such fiduciary duties to creditors (which can be enforced by creditors in court) add a level of credibility to the liquidation process that is absent from voluntary liquidations.

Conclusion

An assignment under the Uniform ABC Act is better for unsecured trade creditors than any other means of liquidating a debtor’s assets—as demonstrated by the illustrations above.

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